In a recent report by Wharton Social Impact Initiative & Knowledge@Wharton on Innovative Finance and the various forms it has taken, the report highlights among others, the multi-originator securitization (MOSEC) transaction that was first pioneered by IFMR Capital. Tracing the origins of MOSEC and how the idea, brought about by an underlying frustration at not being able to cater to small but high-quality originators, came into being. The article throws light on what has since been one of the key vehicles for IFMR Capital in its endeavour to enable capital access to partner originators that it works with.

From the article:

In June 2008, IFMR Capital, a non-bank financial company based in Chennai, India, had opened its doors with the express purpose of providing access to the financial markets to the millions of Indians who lacked it. But, the small- and medium-sized originators who were making loans to the population that IFMR Capital wanted to serve were constrained by the sizes of their businesses.

IFMR had been trying to persuade investors to buy some of the debt of these small microfinance institutions so they could make more loans. But investors were wary. They feared the risk from loans from a single small originator from just one area of the country that was possibly subject to the same natural disasters.

“They were very high quality originators, but they were very small. They were not ready to go to the capital markets,” says Mukherjee, who was CEO of IFMR Capital at the time and is now CEO of IFMR Holdings.

Finally, Mukherjee, deliberating with her colleagues, blurted out, “Why don’t we just pool?” What she was suggesting, securitizing the loans of small- and medium-sized microfinance institutions, originators with portfolios as small as $500,000, had never been tried.

In January 2010, a little more than a year after Mukherjee asked the question, IFMR issued its first multi-originator securitization (MOSEC, now trademarked), a $6.5 million issue bundling some 42,000 microloans, with an average size of $200, from four originators. To date, IFMR has issued 89 MOSECs for microloans worth more than $675 million, representing some 3.7 million loans securitized.

Using a similar model, it has done another $2 billion of MOSECs of affordable housing, small business and agricultural loans. The securitizations give the microfinance institutions access to low-cost capital at a price some 200 to 250 basis points lower than what they’d had previously, and to a new group of investors, including mutual funds, private banks and high-net-worth individuals.

Crucial to turning the idea into action was the special combination of people around the table at IFMR, says Mukherjee. Besides herself, with years of experience in structured finance at Morgan Stanley and Deutsche Bank, was Kshama Fernandes, then chief risk officer of IFMR Capital and now CEO of IFMR Capital, who had deep experience in Indian banking and was a well-known figure who provided credibility to their at-the-time unknown institution; Bindu Ananth, the president of IFMR Trust, whose idealism was essential to making the group press on and tackle problems rather than being discouraged by obstacles; and Gaurav Kumar, the head of origination, who intimately knew the individual lenders and the details of their business and could vouch for their creditworthiness.

“There was nothing in the law that actually prevented it. It was an innovation waiting to happen,” says Mukherjee. “At the end of the day, you apply the same tools and principles of diversification (you’ve done in the past). What we did was contribute to the learning in developing our own underwriting standards for microfinance and small business lenders. What we brought was discipline, expertise, and we became the expression for self-confidence for these asset classes.”

The securitizations have now become so commonplace that they are no longer considered innovative. However, IFMR remains alone in both structuring the deals and retaining a portion of the debt on its own books, says Mukherjee. That way, IFMR ensures that interests are aligned and that the deals are designed for long-term profitability and sustainability, she says.

On Monday, IFMR Capital listed the senior securities of IFMR Capital MosecTM XXII on BSE. This was the first instance of listing of securitised debt in India and marks a significant step towards greater transparency and sustainability in IFMR Capital’s efforts towards financial inclusion, simultaneously marking a milestone for debt securitisation in India.

Mr. Tamal Bandopadhyay, Deputy Managing Editor, Mint moderated the discussion amongst the participants which saw each of the speakers share their views on this first-of-its-kind listing in the debt segment of the BSE. The discussions revolved around the regulators’ efforts towards building a higher degree of transparency in the debt capital markets and how the listing of SDIs on the stock exchange would go a long way in meeting this end. Listing could also be expected to enhance liquidity and enable price discovery in securitised debt by aiding the creation of a secondary market for such instruments. The fact that it was the microfinance sector that pioneered the listed SDI transaction is further reaffirmation that the sector continues to display resilient performance while demonstrating sustainable and balanced growth post the crisis in 2010. Further, the transaction structure was a demonstration that low income households could be served by small, high quality originators, while such originators could sustainably access debt capital markets from large aggregators such as banks, insurance companies etc.

As part of the event, Dr Nachiket Mor and Dr Kshama Fernandes rang the listing bell at the BSE. The first secondary trade in the listed SDIs occurred simultaneously, with Ratnakar Bank acquiring a Series A1 SDI from Axis Bank on the exchange.

In a MosecTM (multi-originator securitisation) transaction, loan pools of multiple originators are combined and securities are issued backed by these pools. The structure therefore allows smaller originators to tap into the capital markets, while at the same time providing investors the benefit of diversification and credit enhancement.

The MosecTM structure is an example of IFMR Capital’s pioneering work towards enabling financial inclusion and capital market access to small, high-quality originators. From the first transaction closed in January, 2010, IFMR Capital has structured, arranged and invested in 22 MosecTM transactions providing access to more than INR 800 crores of financing to originators serving low-income households across over 20 states and 300 districts.

Commenting on this momentous transaction, Dr. Kshama Fernandes, CEO, IFMR Capital said “Pooling loans from multiple originators under the MosecTM structure is beneficial for all participants in the structure. IFMR Capital, over the last 4 years, has been working towards developing access to mainstream capital markets for high quality originators that impact low income households. The listing of the SDIs on the stock exchange is a giant step towards achieving this objective. This transaction is a win not just for the microfinance sector but for the Indian debt capital markets as a whole and we are proud to have played a part in this transaction.”

IFMR Capital recently closed its largest securitisation transaction till date, MosecTM 21. It was an INR 65 crore transaction backed by a pool of 50,000 micro loans. Six MFI originators participated in the transaction. These were Grama Vidiyal, Annapurna, Satin, Sonata, SVCL and Utkarsh.

The Special Purpose Vehicle (SPV) created for the transaction issued two tranches of PTCs – the senior rated A- (SO) and the junior rated B+ (SO). IFMR Capital structured the transaction and also subscribed to the junior tranche of PTCs. The senior PTCs were subscribed to by a bank for whom this was the first ever PTC investment. High repayment rates, low-volatility of returns and low-correlation with other asset classes make microfinance a promising asset class. Since inception, IFMR Capital has built strong networks with main-stream investors including banks, mutual funds, NBFCs and private wealth managers – new classes of investors that had hitherto not been active participants in microfinance.

In 2010, IFMR Capital pioneered the MosecTM (Multi-Originator Securitisation) model – IFMR Capital MosecTM I – It was the first multi-originator securitisation of micro-loans in the world. Since then, IFMR Capital has structured, arranged and invested in 21 MosecTM transactions providing access to nearly INR 700 crores of financing to high-quality originators serving low income households across 20 states and 250 districts.

The MosecTM Model

MosecTM is a Multi-Originator Securitisation transaction where portfolios of multiple MFIs are combined. A unique structure is then designed so as to fit the requirements of different investors from the point of view of liquidity, return, risk, tenor and ratings, and securities are issued backed by the receivables from these portfolios. The MosecTM structure allows small, high-quality originators to tap into the capital markets. Institutions providing financial services to low-income households require a steady flow of capital to expand their reach and continue providing access to reliable financial services to financially excluded households. Bank funding in India is driven by priority sector regulation and hence seasonal in nature. By pooling, structuring and rating the pooled loan portfolios of these high-quality MFIs, IFMR Capital demonstrated that these MFIs could consistently and reliably access funding at a much lower cost.

Talking about the MosecTM model, Kshama Fernandes, CEO of IFMR Capital said, “A small or medium MFI typically finds it difficult to provide a portfolio large enough to be taken to the capital markets. By pooling loans from multiple MFIs into a MosecTM structure, it is possible to reach a critical portfolio size that can then be of interest to a mainstream investor. Pooling loans from multiple MFIs spread across the length and breadth of the country also enables efficient diversification across geographies and originators, thus providing an attractive risk-return payoff for the investor.”

The MosecTM transactions are designed to ensure that incentives of all parties to the transaction are well-aligned. As a servicer, the originator contributes the first-loss in the transaction. As structurer and arranger, IFMR Capital invests in the subordinated tranche in turn signalling to investors its confidence and commitment to this asset class. Through its role as a subordinate investor, IFMR Capital has helped in creating capital markets’ appetite for investments in microfinance.

Structured finance approach has provided microfinance institutions (MFIs) the access to diverse funding sources. During last fiscal year 2011-12, MFIs raised more than INR 20 billion through securitisation transactions. However around 85% of the funds raised were accounted by large MFIs who were capable of providing the critical sized unencumbered microloan portfolios which could be placed in the market. Smaller MFIs often find it difficult to provide a sufficiently large portfolio for a single originator securitisation transaction. The IFMR Capital’s multi-originator securitisation (MOSECTM) allows small and medium sized MFIs to combine their microloan portfolios in a single pool to achieve the required critical size.

Vaibhav Anand and Kshama Fernandes of IFMR Capital have recently authored an article “Multi-originator Securitisation (MOSECTM) in Microfinance” that was published in the Securitisation & Structured Finance Handbook 2012/13 by Euromoney Yearbooks (London), where they explain the MOSECTM structure and its benefits in detail.

It recently structured and arranged a Rs. 401 million securitisation transaction backed by 45,954 microloans originated by Ujjivan Financial Services. This is the sixth capital market transaction for Ujjivan and second securitisation transaction. Ujjivan has raised debt capital through issuance of listed, secured, redeemable, non-convertible debentures in the last and current financial year.

KRIOS PIONEER IFMR CAPITAL 2011, the Special Purpose Vehicle created for the transaction, has issued two tranches of securities rated by CRISIL, India’s foremost rating agency: an 89.5% senior tranche rated CRISIL A1(So) that was subscribed to by a NBFC and a 10.5% subordinated junior tranche that was invested into by IFMR Capital. Both tranches have an expected maturity of 9 months.

The structure created by IFMR Capital ensures that the incentives of the originator, servicer and structure are aligned. While the originator and servicer, Ujjivan, provides cash collateral as first loss. The structurer, IFMR Capital, has invested in the subordinated junior tranche. The cash collateral and the subordination of payments to junior tranche in the waterfall mechanism ensures that the senior investor is protected against losses and any first loss is borne by the originator and the second loss by the structurer.